Archive for the 'Real Estate' Category
I am often asked where is the best place to open one’s first IRA. Usually it’s a Roth IRA, since people tend to start out in lower tax brackets and Roth IRA save you taxes upon withdrawal. Choosing a one’s broker is still a very personal decision so I don’t think there is one single best broker for everyone, but here are the ones I would recommend to my friends and family, so I would also recommend them to anyone. First, some assumptions:
- You want to invest in low-cost funds or ETFs. Not every believe in this style of investing, but I do. If you wish to trades stocks all day or chase 5-star Morningstar funds, then my suggestions might not be the best fit fo you.
- You want low commission costs and account fees. By this, I mean you want the basic services at a good price. I don’t pay attention to things like streaming quotes, advanced trading software, options contracts, or if the website has AJAX everywhere.
- You wish to be an independent investor. If you want to pay for guidance, I still recommend taking the time to learn some of the basics, but please find a good fee-only advisor. They’ll probably set you up with a institutional account in which they can trade for you.
- You are just starting out. So you have anywhere from just $50 a month to $5,000 to put into an IRA. You may be worried about minimum balance requirements, and aren’t eligible for most premium accounts.
Mutual Fund Brokerages
These firms mainly trade their own mutual funds, which somewhat restricts investment choice. To generalize, mutual funds are better suited for people who wish to dollar-cost average and like simplicity.
Vanguard
- Commissions: Free to trade Vanguard mutual funds, although there may be certain redemption fees.
- Account fees: No account fees with electronic statements. Otherwise they may apply.
- Minimum to start: Most index funds have a minimum opening balance of $3,000. The STAR fund (VGSTX) lets you start with $1,000. More information here.
- Vanguard is the place where I hold all of my Roth and Rollover IRA balances. They offer a wide variety of both active and passive products, but I use them exclusively for their index funds. I like their all-in-one retirement funds for new investors.
T. Rowe Price
- Commissions: Free to trade TRP mutual funds, although there may be certain redemption fees.
- Account fees: $10 fore each mutual fund with less than $5,000. Not sure if this is waived for AAB.
- Minimum to start: Most funds have a minimum opening balance of $1,000 for IRAs. However, if you enroll in their Automatic Asset Builder (AAB) program and can commit $50 every month, the minimum requirement is waived and you can start with nothing. More information here.
- T. Rowe Price has index funds, but their expense ratios about about 0.25% higher than at Vanguard. However, their active funds have relatively low-costs and lower turnover compared to other actively-managed funds. I like the combination of the $50/month plan and one of their all-in-one retirement funds for those with limited funds starting out, although I don’t have an account here.
In case you’re curious, I’m leaving out Fidelity because their index funds have $10,000 minimums, and their active funds are more expensive in general than T. Rowe Price. I also don’t like their all-in-one retirement funds very much, as they seem to contain a slew of mediocre funds.
ETF & Stock Brokerages
There are lots of great ETFs out there now, including several from Vanguard, and having a stock brokerage account gives you great flexibility to buy any of them. However, you will be faced with potential per-trade commissions, so here are a few that have low fees. I have accounts with all of these firms.
Zecco Trading
- Commissions: Free for the 1st 10 trades per month if you have $2,500 in total account equity (cash + value of stocks). Otherwise, $4.50 per trade. Both limit and market.
- Account fees: $30 annual IRA fee.
- Minimum to start: No minimum balance to open.
- For more information, see my Zecco account review.
TradeKing
- Commissions: $4.95 per trade, limit or market.
- Account fees: No annual IRA fee.
- Minimum to start: No minimum balance to open.
- For more information, see my TradeKing account review.
Sharebuilder (now owned by ING Direct)
- Commissions:$4 for each pre-scheduled “window” trade purchase. $9.95 for a real-time trade and to sell. Alternative higher-volume plans also available. In addition, if you open an IRA by 4/15/08 and use the promotion code ‘IRA2008′, you’ll get 7 free trades good until 12/31/08.
- Account fees: $25 annual fee if you are in their basic plan. If you are on a plan with a monthly charge, or you have any account on such a plan, this fee is waived.
- Minimum to start: No minimum balance to open.
- For more information, see my ING Direct ShareBuilder review.
I hope that helps people with their research. You should also be aware of IRA termination and transfer-out fees if you wish to move, but these change all the time so by the time you want to leave they may be different. For more related posts on starting out in investing, please see my Rough Guide To Investing.
Posted in Investing, Real Estate | 63 Comments »
After I made the decision to get a fixed rate mortgage over one with an adjustable rate, the next was to decide what length to get. I thought this would be an easy decision, but there are a surprisingly large number of variables to consider!
Viewpoint #1: Get The Shortest Mortgage You Can Afford
With a longer term, you build equity more slowly but have more affordable payments. With a shorter term, face higher monthly payments but you own the home faster and pay less interest. So the traditional advice seems to be: get the shortest mortgage that you can afford.
This is can be a slippery slope, though. 15-year too expensive? Let’s try 30-year. No? How about 40-year? Hmm… barely. Well, maybe that ARM isn’t that bad after all… Affordability shouldn’t be the only consideration.
Viewpoint #2: Get The Longest Mortgage You Can Afford
In my previous post 10 Reasons You Should Never Pay Off Your Mortgage, I explored the reasons why certain financial advisors tell people to get the longest mortgage they can get. Basically, your mortgage is a cheap, long-term loan. If you re-invest this money into stocks, which over the long run are expected to return much more than 5-6% annually, why would you want a shorter loan? It’s a great arbitrage opportunity.
If you believe in this theory, then your answer is simple: get the longest mortgage you can afford, as long as the effective interest rate is lower than what you confidently can earn elsewhere.
Viewpoint #3: Longer Mortgages As Paying For Flexibility
Here’s the thing. Just because you have a 30-year mortgage doesn’t mean you have to take 30 years to pay it off. As long as you don’t have a prepayment penalty, you can simply send in additional money towards your loan principal and pay it off in 8, 15, or 23.5 years. However, if you have a 15-year mortgage, you have to make those higher payments every month or risk losing your home. So going for the longer term essentially sets you a “minimum payment”, which you can exceed as you wish. This can make a big difference if I run into extended unemployment or other large financial setbacks.
Example: 15-Year vs. 30-Year + Extra Principal
Of course, as you get a longer term, your interest rate will also go up a bit. But if you run the numbers, it actually doesn’t make that much difference! Let’s say that the 15-year is at 5.125% right now, but the 30-year is at 5.625%. The 15-year payment is $2,392, while the 30-year payment is $1,727 - a difference of $665.
However, if I just paid the $665 extra toward the 30-year mortgage each month, I still end up paying that 30-year loan off in less than 16 years! In exchange for the safety and flexibility of lower minimum payments, I stretched my 15-year loan out for an extra year. I view this extra interest as insurance.
Our Situation and Final Decision
In the case of Viewpoint #1, we can currently afford the payment for a 15-year mortgage. On the other hand, subscribing to Viewpoint #2 this would leave us wanting a 40-year mortgage at a relatively low 6% rate. However, while I see the merits of the arbitrage argument, I don’t necessarily think it’s an apples-to-apples comparison when you have two things with different risk/return characteristics.
I ended going with the 30-year fixed mortgage, primarily due to the reasons explained in Viewpoint #3. I am not against paying off our house early - I actually like the idea of having my home paid off as it would help simplify our income planning in retirement. (I could also treat paying it off early as owning a bond.) However, the flexibility of being able to make the lower payments as needed was a big draw, especially given the relatively small premium for doing so. Finally, if we rent the house out one day, the lower payment would also help with managing rental cashflow.
So why not a 40-year mortgage here as well? As you go longer, the mortgage payment stops dropping very much. A 40-year loan would involve an even higher rate and only lower our payment by 4%.
Posted in Real Estate | 43 Comments »
Conforming loans are those that satisfy the criteria that Fannie Mae and Freddie Mac set regarding what kinds of loans they will buy. Besides certain credit-related guidelines like debt-to-income ratio, one major constraint is the maximum loan amount. Barring any upcoming changes (see below), the current limits are $417,000 in the continental US (AK, HI get $625,500).
Because they can be so readily sold to these psuedo-government entities, conforming loans are usually very competitively priced. Non-conforming loans have to be sold elsewhere or kept in-house, so they usually end with higher rates. But as recently as July 2007, the added cost for a non-conforming loan might have been only 0.20%. However, due to rising default rates and skeptical investors, the premium is currently around a full 1%. This has led to the increasing popularity of replacing a jumbo loan with two loans - a conforming one and a second loan to make up the difference.
Example. Let’s say you wanted to buy a $600,000 home, with a 20% down payment ($120,000). This leaves $480,000 to be financed, which is over the $417,000 conforming cap. With a single Jumbo loan, here’s your scenario. (I’ll use estimated mortgage rates based on current market conditions.)
But, here’s what happens when you split it up into a $417,000 conforming loan and a $63,000 second loan. The second loan usually has a higher interest rate, similar to that of a home equity loan.
By restructuring, you have lowered your effective interest rate nearly 50 basis points .from 6.5% to 6.01%, which in turn lowered the mortgage payment by $127 a month ($1,524 a year). To find the blended rate, I used the this Dinkytown calculator.
The Fine Print:
- This works best with small 2nd loans. Kind of obvious, but the less you have to put on the 2nd loan with higher interest, the better your blended rate would be. As the loan amount rises, there will likely be a point when the plain Jumbo loan will give you the lower payment.
- The second loan can be structured in a variety of ways. It could be a completely separate loan from a different lender, it could be a home equity loan from the same lender, or it could be a home equity line of credit.
- You might have balloon payments. In my case, I was offered a equity loan amortized over 30 years, but with a balloon payment due after 15 years. So I would need to either pay off that $63,000 within 15 years, or refinance before then.
- Possibly higher closing costs. The second loan may incur closing costs, but they should be a lot smaller than the first loan because things like appraisals have already been paid for.
- Conforming limits might change soon! The pending economic stimulus package legislation - which is almost on Bush’s desk as I type - proposes to temporarily raise the conforming limits to as high as $729,750 in “high cost” areas based on median home price. It is unknown how soon this will take effect, but probably too late for me. (Google News)
Posted in Real Estate | 21 Comments »
I’m curious as to where people initially found their mortgage loans, even if later on it was sold to someone else. Here are the options, along with a brief and very generalized impression of their pros and cons.
- National Banks. In general have above-average rates, but may have special programs for certain groups of people. May be more comfortable and/or reputable. Relatively rigid lending standards. Examples: Bank of America, Wells Fargo.
- Local Bank. May have a good relationship and be easier to communicate with, and may be more flexible with underwriting.
- Online Bank. May offer competitive rates, but the communication and service might not be as good. Example: ING Direct.
- Local Broker. May offer a better rate by shopping around for a wholesale rate and adding their commission. However, the quality and honesty of these brokers can vary wildly from great to subpar. The rates quoted might not actually materialize.
- Credit Union. Limited membership field, but may still offer good rates to members. Example: Navy Federal Credit Union.
- Online Broker. You can compare lenders online at a distance. However, the service again might not be that great. Example: LendingTree.com.
Here’s is the poll:
Loading …
Feel free to explain your decision in the comments if you have time!
Posted in Real Estate | 60 Comments »
I mentioned before that we plan to have just my wife apply for our new home mortgage loan, and not have my name on the mortgage at all. I had been playing around with this idea for months, but it looks like we will be going through with it. Here are some of my supporting reasons:
Helps Prevent Overspending On A House
One of our primary life goals is to be able to live on the equivalent of one income so that we can both work less and enjoy our lives. In order to do so, obviously we will need to maintain a reasonable housing payment. Although it’s clear now that lenders aren’t always the best judges of what is “affordable”, if we couldn’t qualify using only one of us, that would surely be a bad sign. While going through the pre-qualification process, we found banks willing to lend us over 5 times our income!
Although this is usually one of the main drawbacks of only having one spouse on the loan, but we actually saw it as a positive way to help us make sure we weren’t spending too much on a house.
Saves Time and Hassle
We want the best mortgage rate possible, so we are doing a full-documentation loan to prove our financial worthiness. Not only did I only recently finish school again, but a chunk of my income is self-employment income. Doing a full-doc loan with self-employment income involves a ton of scrutiny and at least 2 years of detailed profit/loss records. They also only take the average income over the last two years into consideration. It was simply easier and faster to submit my wife’s more stable and salaried job information.
Projecting A Better Credit Score
Sometimes one spouse has bad credit, so you want to keep their name off the mortgage in order to get a better rate. In our case, it wouldn’t have really mattered since we already got both our scores checked while getting pre-qualified. But my wife’s score is still slightly better than mine - since she doesn’t play silly credit card games - so we figured it wouldn’t hurt.
Leaves Room For Future Mortgage
After we buy the house, I still won’t have a mortgage on my credit report. Supposedly having a mortgage helps your score, but I’ve been doing just fine for over a decade without one, so it doesn’t matter to me. However, if later on I apply for a mortgage myself (investment property?), then I’ll be able to use my full income to qualify since I’ll have no other visible liabilities. Hopefully this will result in a better rate later on down the road as well.
Worst-Case Scenario
Although we never plan on taking advantage of this, if our home does get foreclosed upon, ideally only my wife’s credit score would be hurt as she is the only one responsible for the loan. Of course, I’d also lose my interest in the house.
Both Spouses Can Still Own The House
In our case, we plan on putting both our names on the title of the house with rights of survivorship. From what I’ve read, in many states both spouses have equal interests in any purchased house no matter who is on the mortgage, so it may not even matter.
So no mortgage for me! 
Let me know if I missed something, positive or negative.
Posted in Real Estate | 42 Comments »
This my second post on our experience in Finding A Buyer’s Agent. In Part 1, we tried our best to figure out what we wanted from an agent. Again, we are first-timers and are not real estate gurus. This is a long post, but it definitely shows a real story of how we found our agent - and how she helped us find our house!
Screening Tips
Given the hundreds if not thousands of real estate agents in our area, it was going to be a daunting task to find the “perfect” agent. We had to filter them down somehow. After reading up at a couple of books and websites about how to select a buyer’s agent, here’s what we were told:
- Ask trusted friends for recommendations. Ask about the reputation of both the agent and the brokerage house he/she works for.
- Ask potential agents for testimonials and references. A long list of references is good, but it’s unlikely you’ll hear from the unsatisfied folks.
- Check the local real estate board if your agent has any complaints against them. This is pretty unlikely in my experience, they aren’t exactly regulated that closely.
Our First Experience
First, we asked our friends and family for experiences. One of our family members actually used to be an agent, but she retired a while ago. Another family friend volunteered to be our agent, so we decided to try him out. It didn’t work out as he seemed to only want to show us certain houses in certain areas, and wasn’t very responsive to our specific requests. I guess we weren’t the ideal “let’s see 3 houses you recommend and we’ll just buy one of them” couple. Not wanting to mix friendship and business anymore, we decided to find our own agents from then on.
Interviewing Agents
After browsing some newspaper ads, I decided to visit HomeGain.com and used their free “Find a Realtor” feature to compare some agents. You provide your information like neighborhood, price range, etc. and then a bunch of agents try to create a custom “proposal” for you. However, it’s all done online through their interface, and none of your contact info is shared without your permission. I liked the idea of not keeping my name and phone number private. You also get client testimonials and their experience level. Here is a sample (click for full size):
Most of the proposals sounded the same… “I know all about your neighborhood, let me help you etc. etc.” We picked our favorite five, and asked them the same interview questions online:
Read the rest of this entry…
Posted in Real Estate | 24 Comments »
It’s official! We have an signed offer contract on a house, our earnest check is sent, and we are in escrow. Apparently our timing couldn’t be worse as the world is apparently about to implode, but ah well. Here are some quick bits of information:
- The seller needed a quick sale, and we are buying as-is. We will have to hire a home inspector to make sure everything is acceptable.
- We believe our offer price to be a good deal. It was below asking, and significantly below comparable houses. We literally bid the 1st day on the market.
- The home price is more than we originally wanted to pay, but is still such that either one of us could qualify for the loan individually. Mortgage rates are also really low right now.
- It’s a fixer-upper, but the “bones” are great. It hasn’t been updated much since the late 80s, so it’s pretty ugly to a lot of buyers. We already have lots of remodeling plans.
- It’s a house that fit all of our criteria and more: good neighborhood, excellent schools, acceptable lot size, great square footage. If anything, the commute will be longer but we expected that.
- I’m acutely aware that the housing outlook is bleak right now, but that’s how it is - You’ll see how my decisions work out, good or bad. In any case, there is still a long ways to go until closing. Props to my wife for checking the MLS diligently every single day and making this happen!
Posted in Real Estate | 59 Comments »
Up until a few years ago, the status quo was that the real estate agent who helps you buy your home get half of the 6% commission, so 3% of the sale price of your home. On an average (again, around here) $600,000 home, that’s $18,000. That may be split between the principal broker and the agent (unless you have an independent agent), but that’s still quite a pay day. Nowadays, there are several websites and agents who will offer you a cut of this 3% commission - often for a reduction in features. Here are a few of the more prominent ones:
(*Our eventual agent was found using this service.)
However, the National Association of Realtors is actively lobbying against this practice. Currently, these states ban buyer rebates: Alaska, Iowa, Kansas, Louisiana, Mississippi, Missouri, Montana, New Jersey, New York, Oklahoma, Oregon, Tennessee, and Wyoming.
But should this practice be illegal? Many people - most real estate agents - sure think so. I disagree, and find this stance very anti-consumer. Hey, I can understand not wanting to lower my income. But that’s capitalism. If an agent can operate well without rebates, then they should do so and refuse to offer any such rebates. But if someone else is willing to negotiate their fee, what’s wrong with that? I feel that like for any service provided, both the price and the features should be negotiable. Imagine every car costing $20,000 no matter what, every computer costing $1,000, every haircut costing $50. Yes, a discount agent might offer discount service. But a full-price agent can also offer poor service. In the end, each home buyer should be able to make their own value judgments.
Even our current arrangement is primarily a result of legacy and tradition, not logic. Until the 1990s, in many states there were no “buyer’s agents” at all. All agents represented the seller, which means they had a fiduciary responsibility to the seller - and only the seller. Only within the last decade or so have agents who solely represent the buyer become widely accepted. I believe commission rebates are simply the next evolution in real estate practices.
In the end, not everyone has the same needs. If someone wants a full-service agent who works for a big company like REMAX or Century 21, who will interview the client and figure out the best neighborhood for them, call them with updates every day, and drive them to each house in their nice car (why do they all drive either a Benz or a Lexus?), then they should have the right to do so. On the other hand, my agent has almost 20 years of experience, and is her own principal broker. She drives a Honda Accord, and I’ve never been inside it. We get full MLS access and we e-mail her what houses we want to see. We already have a lawyer who reads real estate contracts all day long in the family.
In addition, if price is such a key ingredient to agent quality - why can’t I offer $5,000 plus the 3% commission to my buyer’s agent? By that logic, that should get me a sweet agent who’ll bargain the pants off the seller and get me a house 20% below market… right?
Posted in Real Estate | 16 Comments »
We’ve been slowly moving forward with the home-buying process, but I’ve fallen behind on the updates. We are far from experts and we might have done it all wrong, but here’s how we found our buyer’s agent to represent us. We started by essentially interviewing ourselves.
Preliminary Research
First, we had to see what was out there. We went on Open Houses every single weekend for months. We looked at houses in “bad” neighborhoods, “good” neighborhoods, and everything in between. We looked at homes priced from $260,000 to $3,800,000. High-rise condos, nice townhouses, detached houses, even a shack with no water heater (but great lot). Close by and far away.
Next, we used online resources such as MLS listing websites. These days you can get a ton of information online in most metro areas, including e-mail updates of new listings. However, I am always suspicious that these sites are somewhat delayed compared to what real estate agents who pays hundreds of dollars for “real” MLS access gets. But by poking around online you can find recent sold data, tax records with previous sales history and home sketches through the city or county, and more.
By combining the real-life visits and the data available online, we started getting really good at doing our own home appraisals. By taking careful note of prices, price drops, whether the house sold or not, and for how much they sold for, we got a feel for the housing markets in different areas. We would predict whether a new listing would be sold within a week, or if it would languish for months. This allowed us to help narrow down what we cared about, and how much each separate feature might cost us.
Oh, and we asked our friends a lot of questions. 
Deciding On Our Needs
This helped us figure out what we wanted from a buyer’s agent:
- Access to homes. Real estate agents will often give each other lockbox codes with no problems, but not just random people calling them up. This can get us in faster, and often with less hassle.
- Shield us from other agents. When a listing agent sees a buyer without an agent, what they see is potential client to show other houses too. They start asking more questions about what we do, what neighborhoods we’re looking at, and so on. We just want the facts on the house.
- Guidance after offer acceptance. Our parents, brothers, sisters, friends - they all have bought houses. I’ve read enough books to know what the steps are and what the terminology is, but it’s still good to have someone who’s done it 100 times before and seen all the potential hiccups.
- Patience. I would be upfront with the fact that we were going to be direct and picky buyers. We don’t want to see every house, just the select few that meet our criteria. We want to see a house, decide on a price we were willing to pay, and make an offer the same day. If they refuse, then we move on. If we don’t see a house we like for months, then that’s also fine with us. In that way, we didn’t need to be called every day or feel pressured. But if something did come up, we would be willing to move fast. We have the down payment and mortgage pre-approval ready to go.
- A second opinion and another set of eyes. I have a father-in-law that can just about build a house by himself, so that helps us a lot. But just having an experienced person point out flaws or features can be great.
Now, could we find such a person, and perhaps even get a commission rebate? I mean, we are talking about a $500,000+ home here. It turns out we could, and we did. (To be continued in Part 2.)
Posted in Real Estate | 34 Comments »
Calculating net worth from an accounting perspective is simply assets minus liabilities. However, most people who track their net worth (like me) end up making some judgment calls. I mean, that printer by your computer has a value. If you put it up on Craigslist, you might get $20 for it. But I doubt you measure it’s value in your “net worth”. What about your car? Jewelry? Your home?
Here are some ideas on accounting for your home in your net worth:
Option #1 - Estimate market value, and subtract amount owed.
I think this is the most technically accurate definition of home equity: fair market value (asset) minus loan balance (liability). However, the hardest part is calculating fair market value. Even professional home appraisers have told me it’s “not rocket science” and there is a lot of subjectivity. (Hint: Most appraisals are ordered by the lender, and the lenders really like it when the home appraises near the purchase price. It makes loans go through smoothly.)
Some ways to estimate current market value:
- Use a home valuation website like Zillow or Cyberhomes. The problem is that these sites often rely on tax records or other databases with outdated information, leading to some weird numbers. Even comparing the exact same house on the two websites side-by-side, I have found them to differ by up to 20%.
- Take your purchase price, and then adjust according to the the percentage change in your area. For example, if you bought for $200,000 and the median house price in your town went up 10%, then put your value at $220,000
- Use your local tax authority as a reference. Some areas estimate your home’s value every year, and use it to find your property taxes due.
- Do your own comps. Did a neighbor’s house just like yours sell recently? Find the cost/area ($/sq.ft.) and compare to your own square footage.
Finally, you could also take off 3-6% to account for the (almost) inevitable real estate commissions you’ll have to pay upon selling.
Option #2 - Track the amount of mortgage balance loan paid off.
Here you essentially assume that your home just stays at the price that you paid for it. So all you need to track is the sum of your down payment and the amount of loan principal paid off so far. This should be included in your mortgage statement.
Alternatively, you could view this as a “countdown to loan payoff”. You’re ignoring the month-to-month fluctuations of the real estate market, and focusing on what you have left to pay before actually owning your home.
Option #3 - Just ignore it.
If you plan on staying in your home for the foreseeable future, then you may not care what your home value is. Your mortgage payment is simply a housing payment like rent, except that one wonderful day it you’ll just be left with property taxes. It doesn’t change how you spend your money, or how much you wish to save.
Any other ideas?
Posted in Real Estate | 44 Comments »
Are you sick of hearing about the subprime mortgage crisis? I sure am. But here’s a satirical news story from Patrick.net that even I found amusing - SUV Bailout To Keep America Humming.
Lawmakers in Washington are near final agreement on a proposed $400 billion bailout of SUV buyers. The massive amount of debt taken on by drivers in an attempt to ensure that their vehicles are significantly bigger than their neighbors? vehicles has resulted in millions teetering on the brink of bankruptcy. ?We need to keep these people in their Hummers, at whatever cost to taxpayers? said Treasury Secretary Henry Paulson. Paulson is expected to announce details of the plan as soon as Wednesday, said sources familiar with the matter.
With more than 2 million drivers facing higher interest costs and the possible loss of their oil-company-friendly vehicles if they cannot meet the payments, the future of US overconsumption is at stake. The White House on Friday said it was appropriate to build a ?bulwark? against the SUV sector?s woes. ?After all?, said President Bush, ?it would not be American for us to live within our means and be responsible for our own financial decisions. Those who failed to spend themselves deeply into debt should pick up the tab to keep real Americans riding high.?
While not perfect, here are the ways in which I agree with this SUV analogy:
- Stuff is stuff. You have a $20,000 car through a $20,000 loan. You stop paying that loan. What happens? It gets repossessed! You don’t really own that car. You only own the right to use it as long as you make the loan payments. When I hear “they’re taking my home away!!”, I empathize the same amount as if they said “they’re taking my car/iPod/HDTV away!!” (which might be a lot or a little depending on the circumstances).
- Mortgages are sold by salespeople. Cars are sold by salespeople. HDTVs are sold by salespeople. I don’t recall any laws being broken here, so what did we really expect from them? Sound financial advice? Unbiased opinions? We never fault car salesmen for painting their products in a good light, we take responsibility if we bought a Hummer we couldn’t afford.
Ironically, there actually are tax advantages for large SUVs when used for small businesses.
Posted in Real Estate | 36 Comments »
Here’s a condensed update to our home-buying story. Our discussions about the subject have been going like this:
Should we buy or rent?
- We should just buy if we intend to live in it for a decade.
Do you want a condo or a house?
- A house. 3 bedrooms, 1500 square feet.
Okay, let’s look at houses… They are all well over $500,000.
- Ouch. What about a condo?
If we buy a condo we’ll probably want to move when we have kids.
- Well if we are going to move, we should just rent.
But I want to settle down…
- Okay, let’s keep looking and see what we get.
The only real compromise seems to be to buy a more expensive house than our initial $500,000 target price, one that we can live in indefinitely. But if that’s the case, I want to get a good deal on that perfect house. Prices here are holding pretty steady, so any offers we make are being rejected. So we keep looking, and sometimes her patience wears thin. I feel she wants to settle, she feels I am too picky. I am stubborn about this because it is such a huge commitment.
The fact is that $500,000 buys you a two-bedroom condo in a so-so building with a so-so commute here. If such high prices seem crazy to you, check out this article about affordability in California:
The percentage of households that could afford an entry-level home in California stood at 24 percent in the third quarter, unchanged from the same period a year ago, according to a report released Thursday.
The California Association of Realtors said the minimum household income needed to purchase an entry-level home at $482,910 in California in the third quarter of 2007 was $99,590, based on an adjustable interest rate of 6.56 percent and assuming a 10 percent down payment. […] The monthly payment including taxes and insurance was $3,320 for the third quarter of 2007.
Yep, crazy sounds about right.
Posted in Real Estate | 57 Comments »
Over Thanksgiving my parents and I discussed the possibility that one day my parents might retire and move near us. Of course, my parents live in a “normal” part of the country where a 2-bedroom condo doesn’t cost $600,000. So the idea of us helping them to buy a home sometime in the future came up. If my siblings and I all put in an equal amount, we would simply inherit an equal share when the time came.
Coincidentally, I also ran across this article by the “Mortgage Professor” which addresses a similar idea: A new take on gift of equity: Turn it into an investment. Instead of a parent simply giving their kids money for a down payment which may put a dent in their own retirement savings, they should structure it as an investment with multiple shareholders.
He has made an Excel spreadsheet which tracks the percentage of home equity that is owned by each party. It took me a while to figure out all the variables, but here are the basics of what you need to consider:
- Ongoing investments. Sometimes you not only need help with a downpayment, but also the monthly payment. Or maybe you don’t need it but the investor wants to help out. Ongoing payments are also handled by the worksheet.
- Interest rate. You’ll need to set an rate of return for the investor’s cash if they “cash-out” before the end of the mortgage. One suggestion is to simply make it the same as the mortgage rate.
- Rent credit. If only one party is occupying the home, they should be required to credit to the investor a market rate of rent. The rent should include regular adjustments to keep in line with inflation.
- Property improvements. It should be decided how property improvements will be decided upon and how to credit each partner.
- Exit strategy. If you don’t plan to ever sell the house, then you should outline an exit plan so that the investor can get access to their money after a set period of time.
So let’s say an investors helps put down $25,000 on a $300,000 house. The assisting investor wouldn’t just be getting $25,000 + 6% a year, you’d also be collecting a portion of “rent” from the person you are helping. The occupant gets to buy their house with less money tied up initially, and would be sharing any potential profit or loss. Sure there is plenty of room for conflict, but I think for some families it might work out well.
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We decided to sit down with a mortgage broker and get officially pre-qualified for a mortgage. Actually “officially pre-qualified” is an oxymoron because the whole process only involved a legal pad and a calculator. The following is just our experience, yours might vary significantly, I really don’t know.
If you’re not familiar with the terms, “pre-qualified” is just a very rough estimation of what kind of loan you can get from a lender. You tell them your credit score (roughly), your income, your debts, and your current assets. They don’t verify any of this, or run a credit check. It’s basically means nothing to a seller. On the other hand, a “pre-approval” is based on your actual credit score and verification of all your numbers (at least for a full-documentation loan). You need to submit tax returns, old W-2 forms, bank statements, paystubs - basically your entire financial life laid bare. This may offer an edge if a seller is comparing offers between you and another seller without a pre-approval.
Lender Ratios
But for me, the main reason for doing this is to find out what their lender ratios were. Also called the debt-to-income ratio, this is all your monthly liabilities (housing payments, car notes, credit card payments, student loan payments) divided by your gross income. This gives you the maximum debt load that the lender will accept and still lend you money. By housing payments, this usually means PITI, or principal + interest + taxes + insurance, so it’s a little more than just the straight payment from a mortgage calculator.
Also, historically, there were two lender ratios, at “top” and “bottom” value (Example: 28%/36%). The bottom (lower) number was the max ratio allowed for [housing] divided by [gross income]. The top (higher) number was the max ratio for [housing + other debt] divided by [gross income]. You had to be below both ratios to qualify for the loan. But I was told that if you have no other debt, that we can bump right up to the top value. I guess before they figured you had a good chance of adding on more “other debt” later in life, but now they just care about total debt load. So really there is only one ratio in many instances - the top one.
Historically, the top lending ratios were somewhere in the neighborhood of 38%. But I was surprised to hear that it’s more like 45-50% now in expensive areas like California, and he has seen as high as 60%! Keep in mind this is a percent of gross income before income taxes! 
A 5.75X Income Multiplier!?
Let’s say your gross income is $100,000/year ($8,333/month) and you manage to be clear of any other debts. (This is just for a round number.) Using this Mortgage Qualification Calculator, I plugged in zero down payment, the default property tax (1%) and insurance (0.5%) rate estimates, a 6% mortgage rate, and a 50/50 lender’s ratio. Here are my results:
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A mortgage broker I was introduced to recently just sent me this article on 10 Great Reasons to Carry a Big, Long Mortgage by Ric Edelman. Apparently Mr. Edelman is the expert to be quoted on this subject, as I’ve heard his name associated with this idea several times. Here are his ten reasons along with limited excerpts of the original article. My response is included at the end.
Reason #1: Your mortgage doesn’t affect your home’s value.
You’re buying your home because you think it will rise in value over time. Yet, the eventual rise (or fall) in value will occur whether you have a mortgage or not. So go ahead and get a mortgage: Your house’s value will be unaffected.
Reason #2: You’re going to build equity anyway.
Many homeowners try to build equity in their house by paying off the mortgage. But that produces weak results when compared to the equity you?ll build simply by watching the house appreciate in value. So go ahead - keep the mortgage. You’ll build plenty of equity anyway.
Reason #3: A mortgage is cheap money.
[…] You’ll find that mortgages offer you perhaps the cheapest way to borrow. Mortgage loans offer low interest rates because you post the house as collateral: If you fail to repay the loan, the lender sells your house to recoup its money.
Reason #4: Mortgage interest is tax-deductible.
Not only are mortgage loans low in cost, the interest you pay is tax-deductible. You can save as much as 35 cents in taxes for every dollar you pay in interest. That means a 6% mortgage loan really costs as little as 3.9%. Why carry 18% credit cards, paying interest that is not tax-deductible, when you can instead carry a 6% mortgage with interest that is tax-deductible? Your mortgage is probably the cheapest money you can borrow, so it makes sense to get as much of it as you can.
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